Over the past decade, thousands of companies have taken public positions on climate change. Airlines, banks, tech giants, and consumer brands have pledged to reach “net zero,” promising to bring their greenhouse gas emissions down to nothing—or close to it—by some future date.
But few companies can actually eliminate all of their emissions. Some activities—flying planes, making cement, running global supply chains—are difficult or impossible to fully decarbonize with today’s technology. To close the gap, many firms buy carbon credits in what is known as the voluntary carbon market, a sprawling web of projects—tree planting, regenerative agriculture, clean cookstoves, and more—into which companies funnel money to compensate for greenhouse gases they emit. In exchange, buyers receive certificates attesting that, somewhere in the world, a ton of carbon is being removed or avoided on their behalf.
The market is substantial and growing. In 2024, firms offset roughly 180 million tons of CO2-equivalent using credits worth $1.4 billion. As pressure to meet climate targets mounts, analysts project the market could reach as much as $35 billion in credits by 2030 and $250 billion by 2050.
It helps show how these three pieces—seller, buyer, certifier—and their different incentives combine to map onto the outcome: how much climate value this market actually produces.
But does it work?
“Think of the market for, say, headphones. People know what headphones are, and there is some understanding of what good headphones are. There are product reviews, pictures online, and previous experiences that inform your decision,” says Ilan Morgenstern, a former Yale postdoc who now teaches at UC Berkeley’s Haas School of Business. “The voluntary carbon market is a bit more like the Wild West, in that there is still some disagreement about what quality really means and how that can be demonstrated.”
That uncertainty complicates the task of building a functioning market. Verifying whether a project genuinely reduces emissions means assessing what would have happened absent the investment, which is notoriously hard to determine. To examine how this problem and other frictions shape the market, Morgenstern teamed with Vahideh Manshadi and Faidra Monachou of Yale SOM to build a model showing under which conditions voluntary carbon markets deliver on their central promise of reducing emissions.
The researchers’ model centers on three players. First are sellers, who run the offset projects and sell the credits. Some sell high-quality credits that genuinely and measurably remove carbon while others are low-quality and deliver little or nothing. The two can be difficult to tell apart, though high-quality credits tend to cost more.
Second are the buyers, firms looking to offset their emissions. Crucially, buyers often want more than just carbon offsets. One airline the researchers spoke with wanted the projects it funded to also benefit communities in the countries where it flies—creating local jobs, improving public health, or supporting economic development. The researchers call these additional social and economic perks “co-benefits.”
Third are certifiers, the third-party registries that vet projects and decide which credits can be issued. They earn their revenue by charging a fee on every credit sold from the projects they approve.
These pieces combine, the researchers explain, to create what economists call a “market for lemons,” a phrase originating in a 1970 paper by economist George Akerlof about the used-car market. When buyers can’t easily verify quality, Akerlof argued, they aren’t willing to pay as much; lower prices drive out the high-quality products; the average quality of what remains falls further; prices fall again. In the case of the voluntary carbon market, if certification is too noisy to reassure buyers of the quality of what they buy, the spiral can end in collapse, with no credits trading at all.
Yet the researchers find that collapse isn’t always the worst outcome. “When certification is less accurate, the existence of co-benefits can help sustain a market that should have collapsed but doesn’t, and that can actually offer negative climate outcomes,” Monachou says.
Because buyers place value on co-benefits, they will buy credits even if they have little confidence in the emissions reductions. That demand props up prices just enough to keep the market running. In other words, a market may look functional while delivering almost no genuine carbon abatement, letting firms claim climate progress they haven’t made. On the other hand, if certification were accurate, high demand for co-benefits could attract more high-quality projects and improve environmental outcomes.
The researchers also use their model to examine how various changes to the market, such as new regulations and shifts in how credits are sold, might shape its climate impact. One intuitive approach is to scrutinize firms’ credit purchases more closely. As buyers face greater legal and reputational risk for using low-quality credits, the intuition is that they’ll be pushed toward better offsets. However, the model finds the opposite. Fearing penalties, buyers lower what they’ll pay for any credit, including the expensive high-quality credits whose price serves as a signal of integrity. This makes it harder for high-quality projects to turn a profit, since they are more costly to implement, which can degrade the overall quality of the market.
A second idea borrows from finance: bundle many credits into a portfolio, much as individual stocks are pooled into exchange-traded funds (some companies already do this). This approach can work well when certification is accurate, since demand for co-benefits effectively subsidizes other high-quality projects in the bundle. But when certification is poor, pooling erases the price differences that distinguish good credits from bad, removing one of the few signals of quality and letting low-quality credits hide in the mix.
In the end, fixing certifier incentives appears to be the most useful lever. “If the market had to focus on a single thing to improve its performance, this would be it,” Manshadi says.
Most registries charge a flat fee per credit issued, tying their revenue to the sheer volume of credits rather than their quality. That gives certifiers less incentive to be strict, since their income is maximized not by perfect accuracy but by waving through enough projects to keep both sales volume and buyer confidence high.
The researchers propose realigning the incentive by instead tying certifier fees to a percentage of credit prices. Because high-quality credits command higher prices, a certifier paid this way profits most when it approves projects that truly do what they promise. This encourages certifiers to rigorously carry out the screening on which the market depends.
The authors are careful to stress that this is a theoretical model, not a field-tested result. But they argue it lays the groundwork for further investigation and improvement. “We think it helps show how these three pieces—seller, buyer, certifier—and their different incentives combine to map onto the outcome: how much climate value this market actually produces,” Manshadi says.
“The Yale School of Management is the graduate business school of Yale University, a private research university in New Haven, Connecticut.”
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